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September 8, 2008

Fannie/Freddie bailout will cause some banks to fail

Numerous banks own Fannie Mae and Freddie Mac common and preferred shares as part of their increasingly thin capital cushions. Those shares are getting hammered thanks to the government's nationalization of the mortgage giants yesterday. (Washington has basically taken over most of the ownership of Fannie and Freddie, leaving private investors with thinner slices that aren't worth nearly as much as they once were.)

When banks write down these shares to their fair value, some won't have enough capital left to continue. They will be taken over by the FDIC. Via Calculated Risk, we get this overlooked dispatch from the Federal Deposit Insurance Corp. which insures bank deposits:

The federal banking agencies have been assessing the exposures of banks and thrifts to Fannie Mae and Freddie Mac. The agencies believe that, while many institutions hold common or preferred shares of these two government-sponsored enterprises, a limited number of smaller institutions have holdings that are significant compared to their capital.

The Federal Reserve Board, the Federal Deposit Insurance Corporation, the Office of the Comptroller of the Currency, and the Office of Thrift Supervision are prepared to work with these institutions to develop capital-restoration plans pursuant to the capital regulations and the prompt corrective action provisions of the Federal Deposit Insurance Corporation Improvement Act.

All institutions are reminded that investments in preferred stock and common stock with readily determinable fair value should be reported as available-for-sale equity security holdings, and that any net unrealized losses on these securities are deducted from regulatory capital.

Calculated Risk says: "Expect more bank failures."

Posted by Jay Hancock at 10:58 AM | | Comments (0)

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About Jay Hancock
Jay Hancock has been a financial columnist for The Baltimore Sun since 2001. He has also been The Baltimore Sun's diplomatic correspondent in Washington and its chief economics writer. Before moving to Baltimore in 1994 he worked for The Virginian-Pilot of Norfolk and The Daily Press of Newport News.

His columns appear Tuesdays and Sundays.

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